United States: Missing Mortgage Details: At The End Of The Day These Mortgages Survived

Chapter 7 trustees sought to avoid mortgages in two separate
cases using their strong-arm powers. They argued that failure to
include the loan maturity date and interest rate in the mortgage
meant that it did not provide constructive notice to a bona fide
purchaser under Illinois law, and thus could be avoided. On appeal
the 7th Circuit rejected this argument and affirmed
summary judgments in favor of the mortgagees.

Under Section 544(a)(3) of the Bankruptcy Code a trustee may
avoid a mortgage that is voidable by a hypothetical bona fide
purchaser of real property. Typically state law provides that a
bona fide purchaser can acquire property free of adverse interests
unless it has actual or constructive knowledge of the interests.
Section 544(a) provides that the strong arm powers can be exercised
without regard to the knowledge of the trustee or any creditor.
However, that leaves constructive notice – which more often
than not means record notice (i.e. deemed notice of property
recorded documents).

In this case, state law provided that constructive notice could
be either (1) inquiry notice – i.e. facts sufficient to put
someone on notice that they should inquire further, or (2) record
notice – which "imputes to a purchaser knowledge that
could be gained from an examination of the grantor-grantee index in
the office of the Recorder of Deeds, as well as the probate,
circuit and county court records for the county in which the land
is situated."

Prior to a clarifying 2013 amendment, a state statute provided
(emphasis added):

Mortgages of land may be
substantially in the following form: The Mortgagor (here insert
name or names), mortgages and warrants to (here insert name or
names of mortgagee or mortgagees), to secure the payment of (here
recite the nature and amount of indebtedness, showing when due and
the rate of interest, and whether secured by a note or otherwise),
the following described real estate (here insert description
thereof), situated in the county of ..., in the state of
Illinois.

Pursuant to the statute, a mortgage in this form "shall be
deemed and held a good and sufficient mortgage in fee to secure the
payment of the monies therein specified."

There was quite an uproar a few years ago when a couple of
bankruptcy cases interpreted this language to mandate that a
mortgage must include all of the identified pieces of information.
Accordingly, if anything was missing, the argument was that the
mortgage was not sufficient and did not provide constructive
notice. If it did not provide constructive notice to a bona fide
purchaser, it could be avoided by a trustee under Section 544.

The state legislature responded by amending the statute
effective June 1, 2013 to state that the provisions in the form
"are, and have always been, permissive and not
mandatory." However, there are still pending cases –
including the cases addressed in this opinion – that were
decided under the statute in effect prior to the amendment.

In each of these cases the trustee argued that the failure to
include the interest rate and maturity date of the debt in the
mortgage was fatal. The court signaled its direction when it
introduced its discussion of the issue by stating "We find it
hard to imagine that any prospective buyers or mortgage lenders for
these properties would, upon discovering the recorded mortgages in
the chain of title in the county land records, conclude that the
mortgages could not be enforced because the maturity dates and
interest rates were missing, and go forward with the purchase or
new loan without ensuring that the existing mortgages would be paid
off as part of the transaction."

So, it is not surprising that the court concluded that the
"better view" is that the form set forth in the statute
has always been a permissive safe harbor. As long as a mortgage
includes required elements under common law, then the recorded
mortgage is sufficient to give constructive record notice so that
it cannot be avoided using the trustee's strong-arm powers.

Given its holding, the court did not need to address an argument
that incorporating the note by reference caused the mortgage to
include the relevant terms of maturity date and interest rate.

Illinois is not the only state where a bankruptcy court has
decided that what appears to be a permissive statutory safe harbor
form should be interpreted as a mandatory form. This can pose
difficulties in drafting and giving opinions since there are often
reasons to omit some of the details included in these forms.

A couple of other interesting points:

In finding that it was not necessary to state the maturity
date, the court noted a state statute that provides that "the
lien of every mortgage ... in which no due date is stated upon the
face ... shall cease by limitation after the expiration of 30 years
from the date of the instrument creating the loan ..."

Thirty years is a long time. However, it might come as a surprise
to a mortgagee that a mortgage could become ineffective with the
passage of time. (And note that other states have similar
provisions with shorter time limits.)

Although the court concluded that a mortgage is not required to
state the interest rate or maturity date, it noted other elements
have been deemed essential.

For example, it appears that if a mortgage does not set forth the
amount of the underlying debt (or at least includes information so
that it can be easily ascertained), the mortgage may be
insufficient to provide constructive notice.

Although the focus is on documents recorded in the real estate
records, apparently in Illinois constructive notice includes
information in local probate, circuit and county court
records.

It is always wise to remember that there can be many nuances in
real estate law that vary by jurisdiction.

The content of this article is intended to provide a general
guide to the subject matter. Specialist advice should be sought
about your specific circumstances.

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A noteholder appealed, arguing, among other things, that the plan unfairly discriminated against his class of claims since other unsecured creditors in separate classes would receive 100 percent recovery.

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